Momentous changes are under way in what central banks are and what they do.We are used to thinking that central banks' main task is to guide the economy by
setting interest rates. Central banks' main tools used to be "open-market"
operations, i.e. purchasing short-term Treasurydebt, and short-term lending to
banks. Since the 2008 financial crisis, however, the Federal Reserve has intervened
in a wide variety of markets, including commercial paper, mortgages and
long-term Treasury debt. At the height of the crisis, the Fed lent directly to
teetering nonbank institutions, such as insurance giant AIG, and participated in
several shotgun marriages, most notably between Bank of America and Merrill
Lynch. .These "nontraditional" interventions are not going away anytime soon. Many
Fed officials, including Fed Chairman Ben Bernanke, see "credit constraints" and
"segmented markets" throughout the economy, which the Fed's standard tools don't
address. .Moreover, interest rates near zero have rendered those tools nearly
powerless, so the Fed will naturally search for bigger guns. In his speech
Friday in Jackson Hole, Wyo., Mr. Bernanke made it clear that "we should not
rule out the further use of such [nontraditional] policies if economic
conditions warrant."

.

But the Fed has crossed a bright line.Open-market operations do not have
direct fiscal consequences, or directly allocate credit. That was the price of
the Fed's independence, allowing it to do one thing—conduct monetary
policy—without short-term political pressure. But an agency that allocates
credit to specific markets and institutions, or buys assets that expose
taxpayers to risks, cannot stay independent of elected, and accountable,
officials.

In addition, the Fed is now a gargantuan financial regulator.Its inspectors
examine too-big-to-fail banks, come up with creative "stress tests" for them to
pass, and haggle overthousands of pages of regulation. When we think of the Fed10 years from now, on current trends, we're likely to think of it as financial
czarfirst, with monetary policy the boring backwater. A revealing example of where we are going emerged last spring, admirably
documented on the Fed's website.Using its bank-regulation authority, the Fed
declared that the banks that had robo-signed foreclosure documents were guilty
of "unsafe and unsound processes and practices"—though robo-signing has nothing
to do with the bankstaking too much risk. The Fed then commanded that the banks provide$25 billion in "mortgage
relief," a simple transfer from bank shareholders to mortgage borrowers—though
none of these borrowers was a victim of robo-signing. The Fed even commanded that the banksgive money to "nonprofit housing
counseling organizations, approved by the U.S. Department of Housing and Urban
Development."Why? Many at the Fed see mortgage write-downs as an effective tool
to stimulate the economy. The Fed simply used its regulatory power to help meet
that policy goal.Even if you think it's a good idea (I don't), a forced transfer from
shareholders to borrowers in pursuit of economic policy is the province of the
executive branch and Congress, subject to reproof from angry voters if it's a
bad idea. The Fed said candidly that it was acting "in conjunction" with the state
attorneys general and the Justice Department.So much for an apolitical,
independent Fed.True, $25 billion is couch change in today's Washington. But you can see
where we are going: Hey, nice bank you've got there. It would be a shame if the
Consumer Financial Protection Bureau decided your credit cards were "abusive,"
or if tomorrow's "stress test" didn't look so good for you. You know, we've
really hoped you would lendmore to support construction in the depressed parts
of your home state.Conversely, when the time comes to raise interest rates, how can the Fed not
consider that doing so will hurt the profits of the too-big-to-fail banks now
under its protection?This is not a criticism of personalities. It is the inevitable result of
investing vast discretionary power in a single institution, expecting it to
guide the economy, determine the price level, regulate banks and direct the
financial system..Of course it will use its regulatory power to advance policy
goals. Of course, propping up the financial system will affect monetary policy.
If we don't like this sort of outcome, we have to break up the Fed into smaller
agencies with narrowly definedmandates. The European Central Bank's political power is, paradoxically, even greater.
The ECB was set up to do less—price stability is its only mandate, and it is not
a financial regulator. But the ECBholds the key to the euro-zone's central
fiscal-policy question. It has bought the debts of Greece, Italy, Spain and
Portugal, and it is lendinghundreds of billions of euros to banks, which in
turn buy more of those sovereign debts..Eventually, the ECB will have to suck up this volcano of euros, by selling
back the bonds it has accumulated. If it can't—if the bonds have defaulted, or
if selling them will drive up interest rates more than the ECB wishes to
accept—then the ECB will need massive funds from German taxpayers to prevent a
large euroinflation. It might ask for a gift of German bonds it can sell, as
"recapitalization," or it might ask for a bond swap of salable German bonds for
unsalable southern bonds. Either way,German taxes end up soaking up excess
euros.Our views of central banks have changed every generation or so for centuries.The idea that central banks are centrally responsible for inflation and
macroeconomic stability only dates from Milton Friedman's work in the 1960s.
It's happening again, and it would be better to think clearly about what we want
central banks to do ahead of time..Mr. Cochrane is a professor of finance at the University of Chicago Booth
School of Business, a senior fellow at the Hoover Institution, and an adjunct
scholar at the Cato Institute..

SANTIAGO – Margaret Thatcher famously once said that “there is no such thing as society.”Today, the people of Chile are showing just how wrong she was.

.For more than a year, young Chileans have been taking to the streets to protest.Many foreign observers have declared themselvessurprised. Why would the citizens of a successful emerging country be so upset? What could they be upset about?

.Chile’s student-led protest movement has generated much re-thinking within the country. Intellectuals of the old left, pointing to persistently high income inequality, have argued that the economic gains made in the 22 years since the return of democracy were more illusory than real. In this view, Chile’s economic model has failed its citizens and is in the process of “collapsing.”

.Defenders of Chile’s current rightist government, pointing to ongoing economic growth and unemployment under 7%, have argued that there is no deep reason for discontent.In this view, if the government stays the course and the economy keeps growing, the malaise will pass.

Recent survey data and a detailed study by the United Nations Development Program (UNDP) suggest that both of these oversimplified views are mistaken.

.In public-opinion polls, Chileans declare themselves to be quite happy, and say that they live much better now than they did a decade or a generation ago.They also overwhelmingly claim that education and hard work are the ways to get ahead in life. And many poorer citizens reportgrowing satisfaction with the health care and pensions to which they have access. This is hardly the stuff of a country whose development model is on the verge of “collapse.”

.But, while Chileans are quite happy with their own lives, they are upset with the society in which they live. Respondents report that they are increasingly resentful of economic inequality and social segregation. They do not trust politicians and political parties, judges, captains of industry, or even members of the clergy..

Many Chilean parents send their children to private schools, but polls report a growing demand for better public schools, which they value as a place where common values are forged among children of different backgrounds. Many arehappy about growing home ownership, but are unhappy about the scarcity of public spaces – safe streets, parks, arts facilities, and community centers – where they can come into contact with their fellow citizens..

This is where Thatcher’s famous statement has proven to be so wrong: there is such a thing as society, and the quality of interactions within it matter profoundly for people’s satisfaction with their lives.

Uncertainty and fear are tworeasons whymany middle-class Chileans report being unhappy about their society. Making it into the middle class requires decades of hard work, but it can all come to naught as a result of an accident, an illness in the family, or the loss of a job. Chile’s social insurance system, these citizens are saying, is insufficiently social and does not provide enough insurance.

The other key source of malaise, the UNDP study reports, is the persistence of discrimination and mistreatment.Too many people report being mistreated on account of their gender, race, socioeconomic status, and even physical appearance. .Discrimination in the labor market is widespread.Plum jobs, middle-class citizens report, seem to be set aside for people with certain last names, from certain neighborhoods, or from certain schools.

.

So the issue is not that people are turning against a system that promises a better life for those willing to work hard and get a better education.Far from it. People are upset that – because of prejudice and abuse – the system is failing to deliver what it promises, even to people with many years of schooling who exert themselves day in and day out

.

This much is clear to those of us who are listening to what the citizens of Chile are saying.Traditional Chilean politicians, however, do not seem to be doing much listening. Their infighting continues to upset people, while most of their policy proposals have little to do with the problems that ordinary citizensface. For the sake of Chile’s future, that will have to change.

.Andrés Velasco was Chile’s finance minister from 2006 to 2010, earning praise for innovative policies that included a measure to save Chile’s copper windfall in a rainy-day fund. At the forefront of Latin America’s economic transformation as both an academic and a policymaker, he served as chief negotiator for Chile’s participation in NAFTA in the 1990’s, and has consulted for the International Monetary Fund, the World Bank, the Inter-American Bank, and several Latin American governments.

Call the stock market's swift 10%rise since the end of May a Teflon rally of
sorts, because myriad worries on Wall Street -- from the so-called fiscal cliff
in the U.S. to Europe's financial mess to turmoil in the Mideast -- haven't
stuck, much less slowed the bull's progress.Instead, stocks have marched gamely
higher, as ultra-low interest rates have burnished risk assets' attraction and
propelled investors to seek higher returns. The market's spirited advance not only has delighted investors, but
vindicated the mostly bullish 2012forecasts of 10prominent market strategists
Barron's surveyed last December.The Standard & Poor's 500 is up12% year-to-date, to 1406, and most of these seers still are bullish, even
though stocks are more expensive now, and worries about the economic backdrop
remain..The mean year-end S&P forecast of the group's seven optimists is 1446,
which suggests stocks will rise15% for the full year.John Praveen of
Prudential leads the pack, with an S&P price target of 1480.The bears, though fewer in number, also are filled with conviction.Barclays'
Barry Knapp sees the S&P falling to 1330 by year end, while David Kostin of
Goldman Sachs pegs fair value at 1250. Adam Parker of Morgan Stanley is the
group's ursa major, with a price target of 1167, based in part on his prediction
that corporate profits will decline in 2013...In general, the strategists agree on the potential pitfalls to higher
investment returns: The global economy is sluggish, corporate earnings have high
hurdles to leap, and the U.S. faces a fiscal cliff, or automatic tax hikes and
spending cuts at year end, unless Congress moves decisively to undo one or both.But the bulls and bears are strongly at odds on how these problems will play out
in coming months.Wall Street's bullish strategists say the summer rally is evidence of the
market's fortitude in the face of well-known concerns.After the presidential
and congressional elections are decided in early November, they argue,
Washington's heretofore warring parties are likely to reach some sort of
agreement on how to forestall fiscal Armageddon by raising sometaxes and paring
some mandated cuts. As for Europe's troubles, they argue, investors have grown
accustomed to living with the uncertainty overseas.Although most bulls see only small gains for corporate profits, they note
that the market's valuation isn't demanding by historical standards, and
especially in comparison with low bond yields. The S&P 500 trades for 13.7
timesstrategists' 2012 profit forecast and 13.1 times their early consensus
estimate for 2013. Theprevailing bet: Stocks will continue to rise with little
fanfare, as has been the case for much of this year.Not so fast, the bears reply, pointing to stocks' swoon in May, and a rout
last August when Congress struggled to reach agreement about raising the U.S.
debt ceiling. All it would take, they say, is one serious setback, particularly
a failure to legislate an end to the fiscal cliff or a banking crisis in Europe,
to send the market reeling by year end.Here's a closer look at how Wall Street's strategists see some key investment
themes playing out in coming months..

.

Corporate Profits and Equity Sectors

..With 2012two-thirds done, the pros see S&P 500 companies earning$100 to
$105 this year.Based on the midpoint of that range, profits are expected to
rise5% from last year's$97.82. The "top-down" crowd isn't far off from its
"bottom-up" counterparts, or industry analysts, who are forecasting corporate
profits of $103.39 for the year.

Our 10strategists' mean profit prediction for 2013 is $107.37, implying
another 5%increase. But there is a wide gap in their profit targets, from
$98.70 at the low end to $110 at the top. .Analysts have a rosier view, as is
common, and see S&P earnings hitting$115.46 in 2013, up12% from this
year's estimate. The bullish strategists expect an expansion in the market'sprice/earnings multiple, not growth in earnings, to be key to any future
rally..Among stock sectors, technology is favored by most of the bulls in our group,
who urge an avoidance of materials and utilities shares.Tech has some of the
most visibleearnings growth in the market, which has helped push up the S&P
500 technology sector19% this year. Materials, on the other hand, have suffered
from decliningcommodities prices; the shares are up6.2% in 2012. Utilities
offer little profit growth, but owing to dividends have returned a total3.1%
this year. Like many market watchers, the strategists are bearish on U.S. government
bonds, and have been since last year.That has been a frustrating bet so far, as
a big drop in bond prices has yet to materialize.Health care and energy are top picks among the Street's skeptical
strategists, the former for its relatively stable earnings growth.Health-care
stocks are up 16%, year-to-date, well ahead of the energy sector's3%gain. The
strategists generally dislikeconsumer-discretionary shares, which have rallied
about 16%. The sector could be vulnerable if the economy slows and the stock
market falls..

Political Risk

With Democrats and the GOP runningneck and neck at the polls, political risk
is this year's big wild card for the financial markets.Unless Congress and the
president strike a deal on taxes and spending, the Bush administration's payroll
tax cuts and reduced tax rates on capital gains and dividends will expire
automatically at the end of 2012. .Jobless benefits also will be cut, and more
than$1 trillionused to fund the federal government will be sequestered.
Together, these outcomes constitute the fiscal cliff, and going over it would
damage the economy, at least in the short-to-intermediate term..If the scheduled policy changes take effect at year end without subsequent
alteration, Goldman Sachs economists figure that gross domestic product,
adjusted for inflation, will be nearly four percentage pointslower by the end
of 2013 than if fiscal policy had remained constant. Specifically, GDP would
contract by 0.4%, pushing the economy into recession."The fiscal cliff is tough to call," says Stephen Auth, chief investment
officer of Federated Investors; he has a year-end S&P target of 1450."The
way the elections turn out will mean much.".Those bullish on stocks generally say that a Republican sweep of the White
House and both houses of Congress would be the best outcome for policy and the
markets.A victory by President Obama, but a vote that puts Republicans in
control of Congress could be trickier. Both sides could "play chicken" on the
fiscal cliff, and that's "not a good outcome," Auth says. He believes both
parties eventually will come to an agreement, perhaps to extend the Bush tax
cuts for a year. .Goldman's Kostin offers a gloomier assessment. While many investors believe
that Congress will do something, says Kostin, "the political realities are that
there's not too much willingness to compromise." .Both parties played a good game of chicken last August over lifting the U.S.
debt ceiling, only to agree to a deal at the 11th hour.But the market fell
sharply while the negotiations dragged on, and Standard & Poor's lowered
Uncle Sam's vaunted triple-A debt rating.Investors have taken a seemingly benign view of the fiscal cliff, "but this
is a meaningful risk not discounted by the market," Kostin says."A compromise
[by a lame-duck Congress] might not happen by January.".Even the optimists are worried.Congress might vote to allow some fiscal
contraction, says Jeffrey Knight, head of global asset allocation for Putnam
Investments, but the fear is that legislative measures will allow for more
contraction than the market currently expects. Knight has a 1420S&P target,
and a small overweighting in U.S. large-cap technology and industrial stocks,
and emerging-market shares. If the "risk-on" trade continues, lagging
emerging-market shares could rally more, he says..

Strategic Picks

.

Most Wall Street strategists make big-picture calls, but some also pick
stocks. Technology, health-care and energy shares are among their current
favorites. Dividends are a big attraction to the pros.

Trouble in Europe

...Who's afraid of the Continent's sovereign-debt
crisis?The bickering and bargaining among euro-zone leaders to save the
European Union's most profligate countries from default has draggedon for more
thantwo years. Yet a resolution still appears a long way off.While U.S. investors are growing accustomed to the ups and downs of the
negotiations, "the days Europe is on the front page generally aren't good for
the market," says Robert Doll, a senior advisor at BlackRock. "I'm most afraid
of Europe. I can live with the elections and fiscal cliff, but I fear a sort of
break that leads to a European banking crisis that affects the rest of the
world.".Doll doesn't think that will happenthis year, however, based on his year-end
S&P 500 forecast of 1425..Other bearish strategists believe that investors are underestimating the
depth of Europe's financial woes."The problems in Europearen't close to a
solution," says Barclays' Knapp. He notes that European labor costs aren't
competitive globally, and that value-added taxes are rising across the Continent
to combat the fiscal imbalances.Yet, bulls expect the Europeans eventually to come to some sort of messy
compromise, and to become less of a concern for the markets."We don't need to
fix the European problem for markets to rally," says Thomas Lee, the chief U.S.
equity strategist at JPMorgan Chase. "We only need it to stabilize." Lee expects
the S&P to end the year around1475.

What's Next?

.

Our pundits agree that corporate profits will grow at a slower pace this year
than last, but differ as to whether the market is cheap or expensive, and on
what will propel stock prices from here. .Lee acknowledges that analysts' consensus earnings estimates have fallen
lately, but he expects U.S. housing activity to quicken and construction to
"take up the slack." In a recent CIA ranking of construction spending, he says,
the U.S. stood at No. 142, behind Zimbabwe, Nigeria, and El Salvador, among
others."It can't continue like that," says Lee, who forecasts$110 in S&P
earnings next year. "Either stocks get more expensive or everything else
falls."Citigroup's head of U.S. equity strategy, Tobias Levkovich, likes to cite
data from the Federal Reserve survey of senior loan officers, which looks at
credit conditions, among other things. It consistently leads economic activity
by about nine months, he observes. It fell last October but has risen in the
latestthree quarters, "signaling we will have growth," says Levkovich. He
expects the market to close at 1425this year, and stocks to earn$108 in
2013.Auth, of Federated, sees the S&P 500 at 1600 in 12 to 18 months, and says
a price/earnings multiple of 17 is "more normal" in a period of abnormally low
interest rates.But he expects the market to trade for 15 timesfuture earnings
at this point next year, assuming U.S. and European policy makers don't behave
irrationally. On the bright side, he says, "regardless of who is elected
president, we've seen the high point of repression of the private economy, and
that'sworth a couple of multiple points."The bears see it otherwise.Decelerating earnings growth, fiscal uncertainty,
and artificially low interest rates make for a multiple-contracting environment,
says Knapp, who argues that more normal rates would promote a higher P/E. The
sooner the Federal Reserve raisesrates, he asserts, "the closer we are to a
sustainable market rally."Morgan Stanley's Parker also contends that an extreme rate level is bad for
P/E multiples.He sees minimal profit growth, in addition to a big retreat in
the S&P..Timing is everything in market calls, along with price. Hence, this caveat
from both our bulls and bears: With the elections looming and potentially
criticalpolicy changes to come, their forecasts won't play out until the end of
2012, and probably not before the polls close on Nov. 6. .That could mean more
time for the Teflon bull to strut his stuff, and for Mr. Market to disregard bad
news.

If you know the other and know yourself, you need not fear the result of a hundred battles.

Sun Tzu

We are travelers on a cosmic journey, stardust, swirling and dancing in the eddies and whirlpools of infinity. Life is eternal. We have stopped for a moment to encounter each other, to meet, to love, to share.This is a precious moment. It is a little parenthesis in eternity.